A UAE resident company sells inventory to its wholly-owned foreign subsidiary at a price 40% below the price it charges unrelated distributors for identical goods, with no commercial justification for the discount. Under Article 34 of Federal Decree-Law No. 47 of 2022 (the arm's length principle), what happens for Corporate Tax purposes?
- The Federal Tax Authority may adjust the company's taxable income to reflect the arm's length price that would have been agreed between independent parties in comparable circumstances, using one of the transfer pricing methods recognized under Article 34 and its implementing decisions
- Nothing -- Article 34's arm's length principle only applies to transactions between a UAE Free Zone Person and its foreign parent, not to a mainland UAE resident company selling to its own foreign subsidiary
- The full amount of the discount is automatically treated as a deemed dividend distribution to the foreign subsidiary and subjected to UAE Withholding Tax
- The transaction is disregarded entirely for Corporate Tax purposes and excluded from taxable income, because intra-group transfers of inventory are not treated as taxable supplies under UAE Corporate Tax Law
Why A? And why not the others?
Correct answer: A. The Federal Tax Authority may adjust the company's taxable income to reflect the arm's length price that would have been agreed between independent parties in comparable circumstances, using one of the transfer pricing methods recognized under Article 34 and its implementing decisions
Article 34 requires that transactions and arrangements between Related Parties be conducted on arm's length terms, as if between independent, unrelated parties, applying one of the internationally recognized transfer pricing methods identified in Article 34's implementing decisions (such as comparable uncontrolled price, resale price, cost plus, or a profit-based method). Because the intercompany sale here departs from the price charged to unrelated distributors for identical goods with no commercial justification, the Federal Tax Authority has the power to adjust the company's taxable income upward to what an arm's length price would have produced. The option confining Article 34 to Free Zone-to-parent transactions is wrong because the arm's length principle applies to Related Party transactions generally, covering mainland resident companies and their foreign subsidiaries alike, not only Free Zone arrangements. The option treating the discount as an automatic deemed dividend subject to Withholding Tax is wrong because an arm's length adjustment operates by recharacterizing the taxable income of the seller, not by creating a withholding obligation, and UAE Corporate Tax currently applies a 0% Withholding Tax rate to the categories of income it covers in any event. The option disregarding the transaction entirely is wrong because intra-group transfers of goods are very much within the scope of taxable income; it is precisely because they are in scope that the arm's length principle needs to test whether the price used was appropriate.
Source: UAE Federal Decree-Law No. 47 of 2022, Article 34 (Arm's Length Principle) and Ministerial Decision No. 97 of 2023 (Transfer Pricing)